What is a Credit Utilization Ratio?
Summary: When you open a credit card, you are given a limit. The credit utilization ratio shows how much of the credit limit you are currently using. To calculate your ratio, you divide the total amount of credit by the total credit limits. It is recommended to keep your credit utilization ratio at 30% or lower to increase your chance of getting a housing loan. If your credit utilization ratio is high, there are a few ways to lower it like paying off debts or keeping fully paid-off credit cards open.
When you open a credit card, you are given a limit. The credit utilization ratio shows a percentage of how much of the credit limit you are currently using. It is recommended to keep your credit utilization ratio at 30% or lower. A low credit utilization ratio can help increase your credit score which also increases your chance of getting approved for a home loan– an asset if you are in the market to get a mortgage.
To calculate your credit utilization ratio all you need are your credit card limits and how much you have spent on each credit card. For example, let us say you have three credit cards currently in use:
Card 1 has a limit of $3,000 with a balance of $500
Card 2 has a limit of $5,000 with a balance of $2,000
Card 3 has a limit of $10,000 with a balance of $4,000.
You would take the total credit limit amount ($3,000 + $5,000 + $10,000 = $18,000) and divide it by the amount you have used ($500 + $2,000 + $4,000 = $6,500). Your credit utilization ratio for this example would be 36%
total credit used/total credit amount = 6500/18000 = .36 x 100 = 36%
The credit utilization ratio is key in determining credit scores. Credit scores are crucial when you apply for a mortgage. They impact the interest rates available to you if you are looking into fixed rate loans, adjustable rate loans, or other loan types.
The credit utilization ratio allows agencies to determine how much credit you are balancing. If you have a high ratio it can negatively impact your score. There are a few ways to improve your ratio such as paying down your debts or leaving a fully paid-off credit card open.
When you close a fully paid-off credit card, you are lowering the total credit limit balance. From our example above:
|If you paid off and closed card 2, your credit utilization ratio would be:||If you keep card 2 after paying it off, your credit utilization ratio will be:|
|4000 + 500/3000 + 10000 = .36 x 100 = 36%||4000 + 500/3000 + 5000+ 10000 = .25 x 100 = 25%|
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